APPLICATION AND STRATEGY IN THE FREIGHT FUTURES MARKETS FOR SHIPPERS
Straightforward and naturally more direct, Shippers are the market participant with the most tangible benefit to be seen in Freight Futures. Transportation expenses are estimated at 5-14% of the cost of goods sold. A Shipper with higher transportation costs will have a product with a higher sticker price, which translates directly into lower pro ts. Limiting risk exposure to increasing price pressures by hedging with futures gives the Shipper protection from possible losses and decreased profitability, while providing greater transparency and accuracy in forward looking expense estimates, all of which give the Shipper who hedges a leg up on the competition.
Obviously, trucking freight futures trading is a complex undertaking; however, taken at face value and even at its most elementary application, costs for a Shipper are stabilized and fixed for the duration of the hedge. Whether buying 5,000 bushels of Soft Red Winter Wheat at the CBOT, 1,000 barrels of West Texas Intermediate Crude Oil at the NYMEX, or 1,000 miles of LAX-DAL Dry Van at the Nodal Exchange, the price paid for that good or service is fixed, known, and secured. Operational expenses are offset with symmetrical gains or losses in the futures market, eliminating volatility and uncertainty from a company’s bottom line. A Shipper long the appropriate contracts can properly budget their future business knowing their freight costs are determined and stable.
Nodal Exchange will list seven of the most highly trafficked lanes, as well as three regional averages and one national aggregate. K-Ratio can assist Shippers in identifying and applying precise correlational strategies between each company’s specific shipment lanes and the exchange traded products, ensuring accurate risk mitigation methods that reduce the volatility associated with freight costs.
APPLICATION AND STRATEGY IN THE FREIGHT FUTURES MARKETS FOR CARRIERS
Though not an expense but rather a revenue, rate per mile is equally important to a Carrier as it is to a Shipper. Inside of the freight futures market, the Carrier maintains the same level of benefit ts as does the Shipper, but instead of stabilizing costs, the gain comes in the form of fixed revenues not subject to the volatile price swings associated with over the road freight. Carriers applying trucking freight futures hedges have the ability to lock in rates for their fleet, as well as provide accurate revenue forecasts, both of which allow for proper budgeting, planning, and expansion of business operations.
Obviously, futures trading is a complex undertaking, however, taken at face value and even at its most elementary application, revenues for a Carrier are stabilized and fixed for the duration of the hedge. Whether selling 5,000 bushels of Soft Red Winter Wheat at the CBOT, 1,000 barrels of West Texas Intermediate Crude Oil at the NYMEX, or 1,000 miles of LAX-DAL Dry Van at the Nodal Exchange, the price received for that good or service is fixed, known, and secured. A Carrier can offset their underlying operational revenues with symmetrical gains or losses in the futures market, eliminating volatility and uncertainty from a company’s bottom line. Implementation of the correct course of action inside of the futures market gives the Carrier the competitive advantage of moving forward with precise revenue guidance, and the realization of those revenues, regardless of uncontrollable market price movement. Simply stated, a Carrier will know what price their trucks will run at, and will receive those rates irrespective of market conditions, dynamics, or counterparties.
Nodal Exchange will list seven of the most highly trafficked lanes, as well as three regional averages and one national aggregate. K-Ratio can assist Shippers in identifying and applying precise correlational strategies between each company’s specific shipment lanes and the exchange traded products, ensuring accurate risk mitigation methods that reduce the volatility associated with freight revenues.
APPLICATION AND STRATEGY IN THE FREIGHT FUTURES MARKETS FOR 3PLS
The positioning of 3PLs going forward in the freight futures market is one that is often overlooked, but possibly the most important and the position that stands to lose the most. Shippers and carriers are obvious and direct benefactors to price discovery, transparency, and fixed revenue/input costs. It is the 3PL, however, that assumes both roles of shipper and carrier, and maintains these roles concurrently and set opposed each other.
Theoretically, and practically for that matter, a 3PL becomes the shipper when loads via contract and spot are awarded and the responsibility for shipment of these loads falls directly on that 3PL. Conversely, those same loads will need transportation, placing the role and responsibility of a carrier on that 3PL as well. It is this duality of responsibility in the movement of freight that financially burdens a 3PL with risk associated to price volatility, be it both from upward and downward pressure on prices.
Ordinarily, one could rationalize that a business facing pressures from both perspectives on price could reasonably abstain from risk management procedures (assuming both pressures were relatively equal and any excess pressure from one side was a negligible amount written off as a cost of doing business). In this instance, the functionality of the 3PL is not uniformly spread across the spectrum of freight business. It is our position that a 3PL faces downward pressure on freight rates on a macro level, particularly for spot market business, while simultaneously exposed to increasing rates on a micro level, particularly for contract business. We believe it is the fiduciary responsibility of every 3PL to maintain both a short freight futures position protecting revenue downside and a long freight futures position specifically for any contractual business and especially for contractual business in several key markets and in several key lanes, in order to maintain revenue and protect from possible losses linked to rising spot market rates.
At face value, maintaining both a long and short positioning freight futures, albeit in different contracts, gives the appearance of a delta neutral position with only varying gamma levels defining the possible skew of the initial hedge. A more in-depth view of this market stance reveals the differences between the two positions and provides clarity in what each position achieves. Firstly, it is entirely possible, and at times very probable, for the two positions to move in opposite directions. The aggregated national van rate is a tool that allows for a global revenue hedge. Lane specific contracts, while subject to overall industry and macroeconomic trends, will be intrinsically valued on conditions in the pairing of origin and destination locations. Truck capacity nationwide may be abundant causing
rates to decrease, while massive warehouse inventories in LA and a rare snowstorm in Dallas cause the rate on that specific lane to skyrocket. Lastly, a hedge strategy is only as good as its correlation to the underlying business it’s intended to protect.
A 3PL that maintains sensitivity to freight rates in general with opposing sensitivity to specific lanes or shipments must defend against both vulnerabilities with the defense mechanism. Only hedges based in both contracts allow for precise risk aversion and protection of a company’s revenue.
10 THINGS EVERYONE SHOULD KNOW ABOUT TRUCKING FREIGHT FUTURES
The future is finally here. The long-awaited Trucking Freight Futures Market opened for trade on March 29, 2019 and rates will never be the same. In order to catch you up to speed, we’ve compiled a must-read list on the ins and outs of this revolutionary new product.
- No truck will ever show up at your front door. There is no physical delivery for Trucking Freight Futures. All contracts will be financially settled, meaning that any and all outstanding positions at time of expiration will be marked to final settlement and accounts will be debited/credited to reflect as such.
- 7 major lanes, 3 regional averages, and one national average have you covered.The lanes available for trade represent over 20% of the entire national volume. Additionally, the historical price patterns of these lanes were predictive of movement in the overall market, as were each regional average, and specifically the national average functions as a broad-based indicator of rates taken as a whole.
- Contracts can be traded as far as 16 months out. Each one of the 11 tradeable contracts will be listed for 16 consecutive months, so whether you want protection during the peak rates of summer or the holiday shopping push, you can pick and choose your spots. Every month for every contract will be listed for that duration, allowing for monthly, quarterly, seasonal, and longer than one year of coverage.
- The Great Triumvirate. These futures are brought to you by three separate companies, not just one single entity. While seemingly atypical, this partnership of DAT, FreightWaves, and Nodal Exchange is exactly what’s needed for the fragmented marketplace of over the road trucking. The industry’s leading authority for spot market rates (DAT), an unparalleled and unrivaled source for freight news and data metrics (FreightWaves), and a state of the art, fully electronic futures exchange providing both trading and clearing functionality (Nodal Exchange) have come together to unite this disjointed and disconnected industry with the much-needed goal of risk management.
- Commercial end-users and speculators can participate. The market is open for trade to everyone and anyone, provided they meet certain financial requirements. Shippers of widgets, trucking companies, third-party logistics providers, hedge funds, and your Great Aunt Edna can all take positions on which direction they believe trucking rates per mile will go.
- These aren’t your father’s soybeans. These might be futures contracts, but they’re not as simple as a bad harvest to the crop or an economic report release to interest rates; trucking rates are a complicated subject. With more than 80% of all goods sold in the U.S. on a truck at some point, and from Alabama all the way to Alaska, this is a complex business with hundreds, if not thousands, of factors that influence prices. Luckily, there are professionals who can help identify, analyze, and predict these outcomes. Just like all other futures markets, a registered CTA (commodity trading advisor) like K-Ratio can offer advice and services related to futures trading.
- Everybody wins. No really, they do. Shippers, Carriers, and 3PLs can now seek risk mitigating solutions to eliminate the volatility and price sensitivity experienced over the years. Weekly and monthly movements of 20-30% are far too common, and rates on average were higher by 62% in 2018. All of these painful swings in price can now be reduced, allowing companies to run more efficiently and effectively, which lowers the costs passed along to consumers.
- Nobody will ever call you looking for a truck to show up. See #1 above.
- This market is enormous. At an estimated annual size of $726 billion, the U.S. trucking industry is larger than the crude oil and agricultural economies combined. If that’s not shocking enough, transportation costs represent 8% of U.S. GDP and driving a truck is the most dominant job in 29 states.
- The ubiquity of telematics? That question is one of the answers to an even bigger question; why now? Well, the time is right. We have reached a point where technology has allowed for this idea to take hold and flourish. Automatic and anonymous submissions of price data provide the ability to record and package rates for lanes, GPS tracking and monitoring allow us to know when and where trucks are at any given point in time, but it was the government mandate of Electronic Logging Devices that provided the most important piece in this puzzle. Every driver now operates within the same limitations as everyone else, giving the industry the standardization necessary to allow a futures contract to seek price discovery and transparency on the only variable left: price.